Rule 206(3)-2 Supporting Statement (2)

SUPPORTING STATEMENT
for the Paperwork Reduction Act Information Collection Submission
“Rule 206(3)-2”
A.

JUSTIFICATION
1.

Necessity for the Information Collection

Section 206(3) of the Investment Advisers Act of 1940 (15 U.S.C 80b-6(3)) (“Advisers
Act” or “Act”) makes it unlawful for any investment adviser, by use of the mails or any means or
instrumentality of interstate commerce, directly or indirectly:
[A]cting as principal for his own account, knowingly to sell any security to or
purchase any security from a client, or acting as broker for a person other than
such client, knowingly to effect any sale or purchase of any security for the
account of such client, without disclosing to such client in writing before the
completion of such transaction the capacity in which he is acting and obtaining the
consent of the client to such transaction.
This specific conflict of interest provision addresses instances in which an adviser deals
with an advisory client as a principal, as well as instances when an adviser acts as agent for
another. Principal transactions occur when the adviser sells securities it owns to the client or
when it buys securities from the client for its own account. Agency cross transactions occur
when an adviser acts as broker to both the advisory client and the opposite party to the
transaction. Section 206(3) of the Advisers Act requires an investment adviser to obtain a
client’s consent in writing prior to engaging in any principal or agency cross transaction.
The Securities and Exchange Commission (the “Commission” or “SEC”) adopted rule
206(3)-2 (17 CFR 275.206(3)-2) to permit investment advisers to enter into agency cross

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transactions under section 206(3) if certain conditions are met.1 Rule 206(3)-2 permits an
adviser to obtain a blanket consent from a client for agency cross transactions, provided the
adviser furnishes certain specified information to the client at specified times. The information
requirements of the rule consist of the following: (a) prior to obtaining the client’s consent,
appropriate disclosure must be made to the client as to the practice of, and the conflicts of
interest involved in, agency cross transactions; (b) at or before the completion of any such
transaction the client must be furnished with a written confirmation containing specified
information and offering to furnish upon request certain additional information; and (c) at least
annually, the client must be furnished with a written statement or summary as to the total number
of transactions during the period covered by the consent and the total amount of commissions
received by the adviser or its affiliated broker-dealer attributable to such transactions.
The Commission adopted rule 206(3)-2 under the authority of sections 206(3) and 211(a)
(15 U.S.C. 80b-3, 80b-11(a)) of the Advisers Act. The premise of rule 206(3)-2 is that
appropriate disclosure of agency cross transaction practices is made in advance and that a client
is furnished with information as to each transaction immediately after it occurs. The
overreaching that section 206(3) is designed to prevent can thereby be sufficiently minimized so
that the adviser need not obtain a client’s consent prior to entering into each agency cross
transaction as otherwise would be required by section 206(3). Accordingly, the information
requirements of rule 206(3)-2 are necessary to make the rule consistent with investor protection.
1

Agency Cross Transactions for Advisory Clients, Investment Advisers Act Release No. 589 (June 1, 1977).
Section 206 (15 U.S.C. 80b-6) applies to all investment advisers as defined in section 202(a)(11) (15
U.S.C. 80b-2(a)(11)) regardless of whether such advisers are required to be registered. Rule 206(3)-2 (17
CFR 275.206(3)-2) formerly was available only to registered investment advisers, however, the rule was
amended in 1997 to make it available to all investment advisers in light of changes to the registration
provisions of the Advisers Act under the National Securities Markets Improvement Act of 1996. Rules
Implementing Amendments to the Investment Advisers Act of 1940, Investment Advisers Act Release No.
1633 (May 15, 1997).

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Disclosure regarding the practice of agency cross transactions apprises the client of the inherent
conflicts of interest involved in such transactions. Disclosure regarding each transaction upon its
completion permits the client to review each transaction to determine whether the terms of the
transaction should be challenged as unfair or the blanket consent should be revoked. Similarly,
annual disclosure of all such transactions permits the client to make an informed judgment as to
whether to continue the consent.
2.

Information Collection Purpose

Clients of investment advisers primarily use the information collected for the purpose of
monitoring agency cross transactions as described in Item 1, above. In addition, Commission
staff reviews the information during its routine investment adviser inspections to assess
compliance with the rule.
3.

Information Technology Role

Investment advisers are permitted to provide to clients the information required by rule
206(3)-2 electronically.2
4.

Efforts to Identify Duplication

The collection of information requirements of the rule are not duplicated elsewhere.
5.

Effect on Small Entities

The requirements of rule 206(3)-2 apply equally to all investment advisers, including
small entities. The rule functions as a safe harbor which small entities may choose to use for
affecting an agency cross transaction without having to obtain specific prior consent from the

2

Use of Electronic Media by Broker-Dealers, Transfer Agents, and Investment Advisers for
Delivery of Information; Additional Examples Under the Securities Act of 1933, Securities
Exchange Act of 1932, and Investment Company Act of 1940, Investment Advisers Act Release
No. 1562 (May 9, 1996).

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client. Exempting small entities would defeat the rule’s purpose and deprive them of the benefits
of the rule. No reasonable alternative exists that would permit the Commission to afford special
treatment to small entities while continuing to protect investors.
6.

Consequences of Less Frequent Collection

Information must be given to a client at the following times: (a) before the adviser
engages in any agency cross transaction with respect to the client’s account, so the client can
consent to prospective transactions; (b) at or before completion of each agency cross transaction
to give the client the opportunity to evaluate the transaction; (c) at least annually, to summarize
all cross agency transactions since the adviser gave the last such summary. Less frequent
reporting would not give a client adequate opportunity to evaluate an adviser's actions or the
corresponding inherent conflicts associated with agency cross transactions.
7.

Inconsistencies with Guidelines in 5 CFR 1320.5(d)(2)

The rule itself imposes no additional requirements regarding record retention. However,
SEC-registered investment advisers may otherwise be required to maintain and preserve certain
information required under rule 206(3)-2 for at least five (5) years. Rule 204-2 under the
Advisers Act (17 CFR 275.204-2) generally requires that registered investment advisers maintain
certain records for not less than five years, including (a) written communications received and
sent by the adviser relating to its recommendations and the placing or execution of any order to
purchase or sell any security, and (b) all written agreements entered into by the investment
adviser with any client.
The long-term retention of these records is necessary for the Commission’s inspection
program to ascertain compliance with the Advisers Act.

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8.

Consultation Outside the Agency

The Commission requested public comment on the collection of information
requirements in rule 206(3)-2 before submitting this request for extension and approval to the
Office of Management and Budget. The Commission received no comments in response to its
request.
In addition, the Commission and the staff of the Division of Investment Management
participate in an ongoing dialogue with representatives of the investment adviser industry
through public conferences, meetings, as well as informal exchanges. These various forums
provide the Commission and the staff with a mechanism to ascertain and act upon paperwork
burdens confronting the industry.
9.

Payment or Gift to Respondents

No payment or gift to respondents is provided.
10.

Assurance of Confidentiality

The information collected pursuant to the rule takes the form of disclosures made by
advisers to their clients. These disclosures are not kept confidential.
11.

Sensitive Questions

No assurance of confidentiality is provided.
12.

Estimate of Hour Burden

The reporting burden will vary depending upon the number of clients for which an
adviser enters into agency cross transactions and the number of such transactions. The currentlyapproved annual aggregate burden of the collection under rule 206(3)-2 is 10,096 hours. This
approved annual aggregate burden was based on estimates that less than 10%, or 631, of all
advisers then registered with the Commission used the rule. We are updating those prior

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calculations based on current information about the number of registered advisers who report in
their Form ADV filings that they or an affiliate engage in agency cross transactions. Based on
current data, we estimate that approximately 550 SEC-registered investment advisers use rule
206(3)-2.3
Based on the experience of examination staff, we estimate that each adviser relying on the
rule has an average of 10 clients who receive confirmation statements and annual statements for
agency cross transactions and that each of those clients receive approximately 2 confirmation
statements per year. Thus, each adviser relying on the rule annually will prepare 20 confirmation
statements for agency cross transactions4 and 10 annual statements. Also, we estimate that an
adviser would be required to provide disclosure to 2 clients per year in connection with obtaining
the initial consent to engage in agency cross transactions. These estimates result in an annual
average of 32 responses per adviser, thus, based on the estimate that each of these responses
require one half an hour, we estimate a burden amounting to 16 hours annually per adviser.5 This
results in a total annual aggregate burden under the rule of 8,800 hours.6 This amounts to a
reduction of 1,296 hours from June 1, 2009 estimates.
Compliance attorneys and compliance clerks are likely to prepare and deliver
these documents. We estimate that approximately 75 percent of these burden hours will

3

This estimate is based on information reported by advisers through the Investment Adviser
Registration Depository (“IARD”). Based on IARD data as of January 3, 2012, of the
approximately 11,657 SEC-registered advisers, 550 responded “yes” to Form ADV, Part 1A,
Item 8.B.1, a question pertaining to agency cross transactions. This represents approximately
4.7% of total population of SEC-registered advisers.

4

10 clients x 2 agency cross transactions per client = 20 confirmation statements.

5

32 annual responses per adviser x 0.5 hours per response = 16 hours annually per adviser.

6

16 hours x 550 advisers = 8,800 hours.

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be performed by clerical employees and about 25 percent will be performed by
compliance attorneys. Based upon an average cost of $60 per hour for a compliance clerk
and an average cost of $322 per hour for a compliance attorney,7 the total cost of the
information collection requirements of Rule 206(3)-2 is estimated at approximately
$1,104,400 annually.8 These estimates of average burden hours and average costs of
those average burden hours are made solely for the purposes of the Paperwork Reduction
Act and are not derived from a comprehensive or representative survey or study, or the
cost of Commission rules and forms.
13.

Estimate of Total Annual Cost Burden

It is estimated that there is no cost burden for the rule, excluding any cost of the burden
hours as identified in Item 12 above.
14.

Estimate of Cost to the Federal Government

There are no costs to the federal government directly attributable to Rule 206(3)-2.
15.

Explanation of Changes in Burden

Neither the number of responses per investment adviser nor the number of hours per
response changed since the last estimate. However, as discussed in Item 12 above, the number of
respondents has decreased from approximately 631 investment advisers to approximately 550

7

The figure of $60 per hour for an Operations Specialist is from the SIFMA's Office Salaries in
the Securities Industry 2011, modified by Commission staff to account for an 1800-hour workyear and multiplied by 2.93 to account for bonuses, firm size, employee benefits and overhead.
The figure of $322 per hour is based on reported industry wages for a Compliance Attorney
taken from SIFMA's Management & Professional Earnings in the Securities Industry 2011,
modified by Commission staff to account for an 1800-hour work-year and multiplied by 5.35 to
account for bonuses, firm size, employee benefits and overhead.

8

(0.75 x 8,800 x $60) + (0.25 x 8,800 x $322) = $396,000 + $708,400 = $1,104,400. This cost
estimate is lower than that previously submitted in connection with this collection. This decrease
in estimated cost, results primarily from a decrease in the number of advisers using the rule

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investment advisers. Accordingly, the total burden hours for all respondents has decreased from
10,096 hours to 8,800 hours. The decreased burden reflects the decrease in the estimated number
of investment advisers relying on the rule since the last extension request.
16.

Information Collection Planned for Statistical Purposes

This collection is not used for statistical purposes.
17.

Approval to not Display Expiration Date

The Commission is not seeking approval to not display the expiration date for OMB
approval.
18.

Exceptions to Certification Statement

This collection complies with the requirements in 5 CFR 1320.9.
B.

COLLECTIONS OF INFORMATION EMPLOYING STATISTICAL METHODS
This collection does not employ statistical methods.

annually and the corresponding decrease in the annual aggregate burden under the rule.